Political Connections, Analyst Following, and the Informativeness of Insider Trading in China

Abstract

Based on the theory of information asymmetry, this paper studies the predictive power of Chinese insider trading on a stock’s future medium- and long-term abnormal returns. The evidence shows that as a whole, Chinese insider trading can predict a stock’s future return in the medium term as well as in the long term, but this predictive ability is affected by factors such as the company’s political connections and analyst following and the ownership nature of its controller. In detail, the insider trading of companies with high-level political connections has significantly higher informativeness than that of non-politically connected companies, but the insider trading of companies with low-level political connections is not informative. Moreover, the effect of high-level political connections on the informativeness of insider trading is related to the ownership nature of the corporate controller. Among high-level politically connected companies, privately controlled companies’ insider trading has significantly higher informativeness than that of state-controlled companies. Analyst following significantly decreases the informativeness of corporate insider trading, but it fails to decrease to a larger extent the informativeness of the insider trading of companies with high-level political connections. This paper makes two main contributions to the literature. First, considering China’s special institutional background, it studies the impact of political connections on corporate insider trading, thereby expanding the perspective of insider trading research worldwide. Second, it is the first time in Chinese research that the positive effect of analyst following on reducing corporate information asymmetry has been tested from the perspective of insider trading, and thus the paper enriches China’s literature on securities analysts. What is more, our findings not only remind investors about the different levels of informativeness among different types of insider trading to help them in obtaining medium- to long-term abnormal returns but also give suggestions to securities market regulators on the types of corporate insider trading that should be monitored more.

Too Cynical: why the Stock Market in China Dismissed Initial Anticorruption Signals

“…10 Theoretically, informed investors transmit information to the market through informed trading [14]. Empirical evidence also suggests that informed investors use their information advantages to trade actively [16], and their trading activities can predict a large proportion of stock returns [43,61]. Anecdotal evidence also suggests that rumors about covert connections between politicians and firms often circulated long before they became public.…”